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The diminished effect of index rebalances

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Abstract

The author revisits the strategy of trading S&P 500 index re-compositions under the pre- and post-crisis financial environments, proving that the return structure has significantly changed. The results show for the first time that there are currently no tradable abnormal returns between announcement and event dates in the post-crisis sample period, indicating smoother rebalancing mechanisms by bank’s client facing desks and better services for passive end-investors. The newly added firms inflate the S&P 500 index by less than ten basis points per year. The results could be attributed to improved execution algorithms used by the banks and potentially to the new regulatory reforms in the sector, which prevents financial institutions from taking large trading positions with their balance sheets.

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Notes

  1. Index changes were published every 3–6 months. The Wall Street Journal published index compositions very rarely.

  2. To support this argument, a calculation of betas using a single-index model and a post-event estimation period of 1 year (following the method of Jain 1987) shows that the average level of the added firms’ systematic risk is 1.16.

  3. October 2008 is considered the most appropriate date to divide the sample given the series of financial events (Lehman bankrupty, Fannie Mae and Freddie Mac take over by the US governement, and Merill Lynch take over by Bank of America).

  4. There are only ten firms in the sample that were added to the index more than 7 days following announcement.

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Authors and Affiliations

  1. ICMA Centre, Henley Business School, University of Reading, Whiteknights Campus, Reading, RG6 6BA, UK

    Konstantina Kappou

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  1. Konstantina Kappou
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Correspondence to Konstantina Kappou.

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Kappou, K. The diminished effect of index rebalances. J Asset Manag 19, 235–244 (2018). https://doi.org/10.1057/s41260-018-0077-8

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  • DOI: https://doi.org/10.1057/s41260-018-0077-8

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